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This post, written by Chris Johnson, originally appeared on Blown Mortgage ten days ago.

The phrase “Declining markets,” are going to become more and more important. Banks are being burned by the lack of appreciation in Midwestern areas like Indiana, Ohio, and Michigan, and imploded areas like Nevada and Florida. Loans aren’t performing because people in trouble can’t sell their homes for anything close to what they owe. And no bank wants to be around when the music stops, so at some point–sooner than you think–we see 25% down payments required on all conventional loans.

How it will unfold.

The presumption is that more problems are happening in the wholesale channel than the retail channel. This is probably true–how sane can it be to let 26 year olds control the financial future of millions of homeowners? To keep their exposure in an area low, the banks start by adding more stringent appraisal requirements. Usually, they request extra comparable sales by the appraiser comps), and the comps are within three to six months–in lieu of a year or so. The next slowdown is when a a lender makes an appraisal review mandatory for certain areas and loan programs. An appraisal review is essentially a second opinion, generally by an appraiser that makes absolutely certain the first appraiser’s work was valid. In practice it’s lower.

The appraisal rules may slow everything down, but they don’t stop lending. They do serve to weed out some of the inflated transactions and speculatory efforts that are part of Real Estate.

Regional Loan To Value–will it be contained?

The next things that banks do is restrict loan to value (LTV) within a geographic region or city. This started with subprime lenders like the late Southstar, BNC, Decision One and Option One cutting values in states like mine. As they were in their death throes, they thought they could assuage Bond traders by cutting LTVs in “high risk states” It did not work. Nobody wanted to be the last one to hold those risky bonds, so they died anyway. The trend is coming to conforming lending, and the markets affected are going to wither.

With MGIC posting its first quarterly loss in 16 years, the availability of mortgage insurance is in doubt. Likely, only the best borrowers will be able to get 90% loan to value loans at MI rates much higher than we are paying. With the MI companies acting as a gate keeper, and lenders squeemish, what’s next?

By restricting programs, banks are saying that the money that they have tied in these houses is an acceptable loss. You see Realtors saying that “the banks are only hurting themselves.” I’m sure that at this point, they are acutely aware that this will make it hard on them, and they know that their best return given the circumstances is going to be to restrict their NEW exposure to markets that will decline.

This isn’t an overreaction, it’s overdue. The future of the housing market is far worse than the present. Individual markets vary, and professionals that are willing and able to add value will prosper at the expense of their peers. The real question is what will the 26 year olds that feel entitled to a $100k a year job hustling points out of people over the phone do? (Links tongue in cheek).

See you Monday–happy Thanksgiving.

Chris Johnson is a Mortgage Loan originator in Westerville, OH.